FERC Declares Tax Equity Investments Involving Specific Consent and Veto Rights Do Not Require Prior Authorization from FERC

The Federal Energy Regulatory Commission issued a declaratory order on October 4, 2017, confirming that the purchase and sale of passive tax equity interests in project companies or their upstream owners does not require prior authorization from FERC.  The clarification is limited to tax equity investments where the consent and veto rights of the tax equity investor are limited to those reviewed by FERC in AES Creative Resources, L.P., et al. (AES Creative).  129 FERC ¶ 61,239 (2009).  To the extent that a tax equity investor negotiates consent and veto rights that depart from the AES Creative precedent, the project company, its upstream owners, and the tax equity investor must determine whether those rights are, in fact, passive.  Absent clear guidance with respect to a particular set of consent and veto rights, project companies and their investors might continue to seek prior authorization under Section 203 of the Federal Power Act for future tax equity investments.

A corporation, partnership, or other entity or individual that owns transmission used for power sales in the continental United States (including a generation tie-line), other than a transmission line within the area of Texas controlled by the Electric Reliability Council of Texas (ERCOT), has a rate schedule on file with FERC, or makes wholesale sales of energy in the non-ERCOT continental United States is a “public utility” under the FPA.  Under Section 203(a)(1) of the FPA, public utilities must obtain prior authorization from FERC to (i) “sell, lease, or otherwise dispose of [FERC] jurisdictional facilities[,]” or (ii) “merge or consolidate, directly or indirectly, [their jurisdictional] facilities or any part thereof with those of any other person, by any means whatsoever[.]”  Qualifying small power production facilities with a capacity that does not exceed 30 megawatts, as well as all qualifying cogeneration facilities, are exempt from Section 203(a)(1).  

Similarly, a corporation, partnership, or other entity that directly or indirectly owns 10 percent or more of the voting securities of a public utility that owns operating generation or transmission assets is a “holding company.”  Under Section 203(a)(2), holding companies must obtain prior authorization from FERC of the FPA to “merge or consolidate” directly or indirectly, by any means whatsoever, with a public utility or other holding company that directly or indirectly owns operating generation or transmission facilities.  However, FERC has established multiple blanket authorization for holding company transactions that normally would require prior authorization under Section 203(a)(2).  For example, if an entity is a holding company solely with respect to one or more exempt wholesale generators (EWGs), foreign utility companies (FUCOs), or qualifying facilities (QFs), it has blanket authorization under Section 203(a)(2) of the FPA to acquire the securities of additional EWGs, FUCOs, or QFs.

FERC has held that the “or otherwise dispose” and the “merge and consolidate” language Sections 203(a)(1) and 203(a)(2) of the FPA include direct or indirect transfers of control of FERC-jurisdictional facilities.  Control, as defined by FERC, includes transfers of 10 percent or more of the voting securities of a public utility or one of its upstream owners.  In contrast, FERC has held that transfers of passive interests in a public utility, whether direct or indirect, do not require prior authorization under Section 203.  In addition, FERC has granted a blanket authorization for holding companies to acquire non-voting securities in public utilities.  Although tax equity investors are typically characterized as passive, FERC has not previously expressly held that the purchase and sale of tax equity interests that satisfy FERC’s criteria to be classified as “passive” does not represent a transfer of control.  As a result, most owners of renewable energy projects that are eligible for tax equity investments, as well as tax equity investors in these projects, have sought Section 203 authorization in order to avoid any question as to their having obtained all required governmental approvals for the investment.

In the context of market-based rate applications and related filings submitted under Section 205 of the FPA, FERC determined that the package of consent and veto rights typically granted to tax equity investors are passive and therefore does not result in a transfer of control or in any new affiliations for the project company.  In the AES Creative decision, FERC reviewed consent and veto rights of tax equity investors set forth in three separate limited liability company agreements and determined that those rights did not transfer control over the underlying public utilities; instead, the rights were narrowly-tailored to protect the tax equity investor’s investment.  Since AES Creative, market-based rate entities have submitted filings under Section 205 of the FPA demonstrating that the limited consent rights granted to their tax equity investors are substantially similar to those accepted by FERC in AES Creative.  These latter submissions have all been accepted for filing by FERC staff acting on their delegated authority, and therefore their acceptances cannot be relied upon as binding precedent.  Accordingly, the only consent and veto rights that FERC (as opposed to its staff) has determined to be passive are those that were accepted in AES Creative.

FERC’s declaratory order provides the missing link between its rules under Section 203 of the FPA and AES Creative.  Although FERC’s order provides clarification only with respect to the specific consent and veto rights evaluated in AES Creative, and the wording if not the scope of these rights can vary from one project to another, we have been able to review tax equity consent and veto rights to determine with relative certainty whether the rights would pass FERC’s test.  Among the most important distinguishing characteristics of a passive investor’s rights are (i) the investor does not have direct or indirect control over the day-to-day operations of the project company, (ii) the investor does not have a voting position on a board or other governing body of the project company, and (iii) the investor cannot remove the manager without cause.

Going forward, when determining FERC approvals needed for a new tax equity transaction, the first step should be to review the tax equity investor’s consent and veto rights to evaluate how closely they conform to the package of consent and veto rights accepted by FERC in AES Creative.  If the tax equity investor’s consent and veto rights closely conform to those accepted by FERC in AES Creative, it is likely that prior authorization from FERC is not required under Section 203 of the FPA to close the tax equity transaction.  However, without further clarification from FERC, there will continue to be a measure of risk associated with this analysis.  Notwithstanding FERC’s recent order, some investors or developers may determine that it is easier and more cost-effective to obtain the 203 authorization than it is to work through the uncertainty associated with a set of consent and veto rights that have not been evaluated by FERC. 

A copy of the declaratory order can be found by clicking here.

by Adam Wenner and A. Cory Lankford